2011-04-19

Why gold could hit $5,000

It's all about supply and demand.

Data from the Shanghai Gold Exchange show that China's gold imports reached 230 tons in the first 10 months of 2010. But in only the first two months of 2011, industry experts cited by Standard Chartered estimate that imports hit 220 tons. No doubt, Beijing's somewhat weak-handed efforts to fight inflation are contributing to the rise, as people look to protect their burgeoning wealth from the ravages of rising prices.

Even poor peasant farmers in India, if the monsoons are good and the crops are bountiful, will splurge on a grab of gold. These people may not understand the value of interest-rate compounding or portfolio diversification, but they know that gold is an ancient and universally accepted store of value.

Gold, of course, is the traditional hedge against inflation for investors. And right now, the inflation threat continues to grow.

"Real" inflation-adjusted interest rates are negative since inflation is currently running higher than interest rates. The two-year Treasury yield stands at 0.85% while consumer price inflation is running at 2.2%. The negative 1.45% real yield is a sign of extremely cheap cash and bubbling pressure on prices. And it's forcing investors out of cash and into assets that will hold their purchasing power in a negative rate environment -- assets such as gold.

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